Treasury takes a big step to fight dirty money

David S. Cohen, Undersecretary for Terrorism and Financial Intelligence at the Treasury Department

Friday, 1 Aug 2014 | 2:07 PM ETCNBC.com

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For years, the Treasury Department has worked to bring transparency to our financial system. Yet, one critical gap remains — banks and brokerages often do not know the identity of the people behind the businesses that open accounts. This makes it easier for financial criminals, terrorist financiers, and sanctions busters to move and launder their dirty money through anonymous shell companies, front companies, and other types of legal entities.

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This week, the Treasury Department took an important step to close this loophole. We proposed a new regulation that would require, when an account is opened, for banks and other financial institutions to identify and verify the identity of the real people behind the businesses who are their customers. And while this may sound rather technical, it nonetheless is a critically important step forward in the fight against dirty money.

Surprising as it may be, many companies do not need to disclose their owners when opening a bank account. This is because our anti-money laundering regulations do not currently require financial institutions to obtain this information, though some still do so voluntarily. As a result, an anonymous shell company in one state owned by a similarly faceless company in another, and controlled by a shadowy foreign-based holding company, may be able to open a U.S. bank account without revealing the true identities of its individual owners. In short, the lack of an explicit legal requirement has allowed bad actors to transact through opaque legal entities with no personal traceability.

While we recognize that the vast majority of companies formed in the U.S. are formed for legitimate purposes, some are not. Each year, billions of dollars move through the global financial system under the anonymous cloak that shell companies provide and into the hands of some of our most dangerous adversaries. These include narco-traffickers, weapons proliferators, sanctions evaders, child pornographers, cyber-criminals, terrorists, and money launderers. In addition to the threat posed to our national security by these illicit companies, they also distort competition and cost our economy precious tax revenue.

And these illicit actors are not operating exclusively from slipshod regulatory regimes in far-flung or exotic locales. Taking advantage of our infrastructure, highly regarded banking sector, and rule of law, illicit actors go incognito to access the global financial system from right here in our backyard.

The threat is not hypothetical. Take the discovery in 2008 of a New York shell company that owned 40 percent of a skyscraper on New York's Fifth Avenue. Behind the shell company was Bank Melli, a crucial node in Iran's nuclear procurement network and a financial facilitator for the Islamic Revolutionary Guards Corps and its Qods Force.

Through pure legal subterfuge, Bank Melli repatriated tens of millions of dollars back to Iran.

Alarmingly, this was not a one-time transaction but an ongoing source of cash for Bank Melli; one that could have been intercepted much earlier had the shell company been required to reveal its true owners when it applied for a bank account.

Indeed, with the air of legitimacy that accompanies an entity incorporated in the United States, companies like Bank Melli hide behind their shell proxies to straddle the grey zone between licit and illicit economies, transacting globally with relative impunity. Meanwhile, those of us that "follow the money" find ourselves constantly running up against legal brick walls, often unable to pierce the anonymity of these paper firms until it's too late.

But the proposed regulation that we are publishing today will help change this. By requiring companies to reveal their actual, beneficial owners when opening a bank or brokerage account, the rule would help us, and our law enforcement colleagues, investigate illicit networks to effectively detect, disrupt, and deter their operations.

Some bad actors, of course, will lie to their banks or brokers to conceal their true identities. But a false declaration on a disclosure form will itself be a crime and offer law enforcement the opportunity to pursue a separate case for misrepresentation.

Moreover, this rule would help level the playing field across the financial industry: As it stands, diverse approaches to how financial institutions identify the true owners behind companies has in effect created arbitrage opportunities for illicit actors to exploit financial institutions. Through the proposed rule, we seek to ensure that all financial institutions are working from the same playbook when it comes to financial transparency.

We are certainly sensitive to the costs of compliance with our anti-money-laundering rules and that's why in crafting this rule – like all of our rules – we have tried to strike the appropriate balance between the benefit of increased transparency with the potential new burden to financial institutions. And we welcome comments on the proposed rule from the industry and public on how to improve this balance.

Indeed, the proposed rule is a product of extensive outreach to the financial community. At town hall meetings and conferences across the country, we engaged with thousands of financial institutions, from large international banks to small broker dealers. And we made significant changes based on the feedback we received during these discussions.

This proposed rule is complemented by an Obama Administration legislative proposal announced in March, which would require all companies formed in any state to obtain a federal tax employee identification number and make information on the true owners behind the company more readily accessible to law enforcement. The combination of these two initiatives would help stop illicit actors from misusing companies by implementing new requirements at the two main access points — when a company is formed and when they seek access to the financial system.

With the threats we face today, and the sophistication of the global financial system, there is no more room for nameless, faceless bank accounts. Illicit financial actors have evolved to take advantage of this loophole. Finalizing this rule will take us one step closer to closing it.

David S. Cohen is the Undersecretary for Terrorism and Financial Intelligence at the U.S. Department of the Treasury.